Can Islamic Finance Help Control Inflation?

The COVID-19 pandemic, the war in Ukraine, and recent global supply chain disruptions have forced commodity and food prices to go up almost everywhere. Economies are shrinking and inflation has started biting even some of the largest economies in the world.

Due to the sharp rise in food prices, consumers have been suffering. There is an imminent danger that millions of people in parts of Africa, Asia, and other regions will not be able to provide food for their families after a few months. According to an article published in The Economist, the world is fast heading for a food catastrophe. What is the panacea to the problem?

Countries around the globe have been implementing various monetary policies to handle the cost-of-living crisis. The objective of applying various policy tools is to create a balance in demand and supply forces and drive inflation lower.

In a conventional framework, raising the interest rates has been the most important monetary tool central bankers have used to arrest inflation. But how many rate hikes can economies withstand? Economic policymakers are divided on this issue. Even if they can contain recent price rises to reasonable levels, the path to do so could be painful.

Consumer prices in the US, UK, Japan, Pakistan, and other countries have climbed sharply in the past few months.

How Can Islamic Finance Arrest Inflation?

Can Islamic finance also help control historic rises in prices?

Before we delve deeper into how Islamic finance can help control inflation we need to understand the root causes of the current inflationary pressures.

Factors Causing Price Hikes

There are four main reasons why the world has been experiencing higher prices for food and other commodities in the past year or so.

Supply Chain Disruptions Due to a Surge in the Covid 19 Cases in China

China, being the largest supplier in the world, has been facing a surge in Omicron cases recently. As a result of the continued lockdowns in Shanghai and surrounding areas, the manufacturing sector in the country is badly affected. Due to a drop in production, people around the world are forced to spend less on groceries and gasoline.

Motor Fuel and Gas Price Rises

In March this year, fuel and gas prices rose to 22%, a record in recent years.

Russia-Ukraine War

Both Russia and Ukraine have played an important role in supplying wheat and oilseeds to countries in Africa, Asia, and other parts of the world. The prices of these essential items have been rising consistently after the war started in late February. As the war shows no signs of ending there will be upward pressure on the price hikes. The phenomena may continue well into 2023.

Indian Ban on Wheat Exports

Another factor causing the price hikes worldwide is the refusal of the Indian government to export wheat to other countries. previously, it had announced that it would export wheat to various to help them control inflation.

How Can Islamic Finance Help Tame Inflation?

An ideal Islamic financial system focuses on wealth distribution. It requires financial resources to be directed to performing real economic activities. There is no indirect tax in the Islamic finance system (IFS). Islam discourages the hoarding of cash and wealth. One needs to give Zakat to the needy so that they could meet their expenses easily.

So, what are tools available in Islamic society to contain inflation?

• Distribution of Zakat and charities to the poor
• Use of cash handouts to the poor in a society
• Supply of productive labor
• Optimum use of land by citizens

The IFS also requires wealthy members of society to invest their savings in useful economic activities. This investment in real assets will enhance employment in societies.

Wealthy Muslim countries could channel their Zakat funds to help the poor in other countries too.

However, no matter which measures and policy tools governments implement to tame inflation the actions taken by policymakers need to be decisive, swift, and targeted at low-income households.